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Shell’s dividend cut could be a seminal moment for the energy transition

big-change-ahead

I’ve always argued that the acid test for Big Oil and their commitment to active, positive participation in the energy transition will come when the oil price crashes. When that happens, will they revert to their core businesses of fossil fuel extraction and processing, while cutting back on less profitable and non-core activities such as new energy? 

That moment has arrived. Oil prices have crashed to multi-decade lows as demand has plummeted following the stalling of the world economy, while oil supply has been much slower to respond. 

In the light of the lower and hugely uncertain outlook for oil prices, Big Oil have en masse started cutting their capital expenditure budgets to protect their balance sheets. As the saying goes in the oil industry, “the best solution for low oil prices is low oil prices”: companies cut back, preserve cash, ride out the storm and then invest again when a new higher price equilibrium becomes evident. 

Could it be different this time?  

Could this cycle be different this time? Not because oil prices won’t recover, but because Big Oil will behave differently when they do.  

Since the crisis both BP and Shell have reaffirmed their commitment to the energy transition and becoming net zero companies. Of course, we can argue about how they can deliver on these aspirations at the same time as also seeking to grow their fossil fuel extraction businesses, but their commitment is clearly stated. However, will they be able to follow through? 

I believe Shell’s dividend cut is a signal that the company will follow through. The consensus was that Shell would not cut the dividend – their balance sheet is still strong and who would want to be the first CEO to reduce shareholder payouts since the Second World War? The decision saves Shell circa $10bn cash. Combined with $9bn of cost reduction and $16bn of cancelled share buybacks, it is clear that Shell has deployed its big bazooka in response to the crisis.  

Shell’s main rationale is to protect its balance sheet and employees given the huge uncertainty of how this crisis will play out. But it also protects its commitment to new energy and even creates new headroom for the company to accelerate the growth of its New Energies business. This is not the stated intention, but it could well be one of the outcomes.  

What about BP? With a new CEO just in place, it would have been an incredibly brave decision to cut the dividend. Now Shell has moved, surely it won’t be a surprise for BP to follow in the next months. 

How can we tell if it will be different this time?  

I think we need to ask a new question; it’s no longer, what will Big Oil do when the oil price crashes? The question we need to ask now is, what will Big Oil do when the oil price recovers? 

If Big Oil restart their planned expansion of fossil fuel extraction and reinstate their dividends to historic (and in my view) unsustainable levels, then my optimism will indeed be crushed, and Big Oil’s commitment to the energy transition can be called out as greenwash. But if they maintain more conservative dividend policies, recycle profits from legacy extraction businesses into building scale and profitability in new energy, while building a strong narrative for shareholders that it’s about securing the long-term value of their companies, then we will know it is not.  When this moment arrives – higher short-term dividends vs long-term value protection and creation – shareholders will have a crucial role in determining the outcome. 

The moment when Big Oil got serious about becoming Big New Energy 

Shell’s dividend cut is a positive signal that Big Oil can pass the acid test for their commitment to the energy transition of low oil prices, but the real proof will only come when oil prices recover. When we look back in a few years’ time, it could be that Shell’s dividend cut will be seen as a seminal moment for the energy transition: the moment when Big Oil got serious about becoming Big New Energy. 

We’ll be looking at how incumbent energy suppliers and start-ups are responding to the crisis in the next Viewpoint from our New Energy Business Model team, contact me if you would like more details.  

 

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Saturday, 31 October 2020

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